hi everybody Jacob breed here from review econ.com today we're going to be talking about monopolistic competition if after watching this video you still need a little more help head over to review econ.com and pick up the total review booklet he has everything you need to know to Ace your microeconomics or macroeconomics exam let's get into the content so first we need to talk about what monopolistic competition is qualities of a perfectly competitive market include many sellers within the market that means it is highly competitive also we are going to have very low barriers to entry remember barriers to entry is anything that makes it difficult to start a business and enter the market those are things like high startup costs Customer Loyalty or government regulations and since there are low barriers to entry and monopolistic competition we are going to have zero economic profit in the long run that means firms are going to break even or earn a normal profit in the long run and in that regard it is similar to perfectly competitive markets but there's a very important distinction between perfectly competitive markets and monopolistic competition and that is that goods are different these differences could be merely just name brands or some products within the market will have different qualities and since goods are differentiated but substitutable we are going to have a downward sloping demand curve and that's because of the substitution effect and because firms within a monopolistically competitive market have a downward sloping demand curve they are going to have some impact on the price they can charge for their product if they raise their price they will sell fewer units of output but it might actually increase their profit next we're going to talk about the demand and marginal revenue for a monopolistically competitive firm when we draw out the graph we're going to have the price on the y-axis and the quantity on the x-axis just like most other graphs in this class now each firm has a downward sloping demand curve and this isn't the overall market demand curve like you see with a monopoly this is this firm's portion of the market it's essentially the customers that they have available to them and since it's downward sloping an increase in the price means that consumers will buy substitutes and an increase in output will mean that the price will necessarily fall now just like with a monopoly we have a difference between the demand and the marginal revenue for a firm here we see a table to illustrate the point if this firm produces one unit of output at a price of 11 the total revenue and marginal revenue will be 11 that's equal to the price for that first unit but if the firm produces a second unit of output they are going to lower the price on that second unit and the first unit that means the total revenue is going to be twenty dollars and the change in the total revenue or marginal revenue is nine dollars the marginal revenue is now less than the price if we graph out these first two columns that is the quantity demanded and the price that gives us our demand curve and if we graph the quantity demanded with the marginal revenue that will give us our marginal revenue curve and we can see that the marginal revenue is going to be less than the price or the demand and so just like a monopoly we are going to graph the marginal revenue below the demand curve so here's our demand it's also our average revenue and price and we are going to draw in the marginal revenue below the demand curve and just like you could with a monopoly you can determine the elasticity of the demand curve above through the value of the marginal revenue when the marginal revenue is positive the demand curve is elastic where marginal revenue is zero that is the unit elastic point on the demand curve above and when marginal revenue is negative that is the inelastic range of the demand curve above so when it comes to monopolistically competitive markets they have both short run and long run in the short run they can earn economic profits let's see how to graph that here we've got our axes labeled price and quantity let's throw in our demand curve average revenue and price that is our downward sloping curve there and our marginal revenue curve below next we need to throw in our cost curves first of all the marginal cost curve and with our marginal cost we can now find our Mr equals MC quantity that is the profit maximizing quantity for all firms find that point where Mr equals MC drop down that is the profit maximizing quantity The Firm will then price all the way up at the demand curve above PF is the profit maximizing price you find the profit maximizing price just like you do with a monopoly and since this firm is going to be earning economic profits the ATC must be lower than the profit quantity point right there so let's draw in that average total cost curve below low the demand curve at the profit maximizing quantity and this firm is earning an economic profit and we know that because the average total cost curve is less than the demand at the profit maximizing quantity from that profit maximizing quantity find a point at the average total cost curve above and the demand curve above that go all the way to the axis and that rectangle there is the amount of economic profit for this firm if there were numbers here we could calculate the amount of economic profit by finding the area of that rectangle monopolistically competitive firms can also earn economic losses in the short run to draw that graph we're going to again start off with our axes labeled draw in our downward sloping demand average revenue and price curve with our marginal revenue below throw in our marginal cost curve also then find the marginal revenue equals marginal cost at that point drop down that is the profit maximizing quantity labeled qf price all the way up at the demand curve above I'm going to label that price PF right there and because this firm is going to be earning economic losses now we need to have an average total cost curve that is above the price or the demand curve at the profit maximizing quantity so draw in that average total cost curve up high and that is economic losses to find the box of economic loss go up from the profit maximizing quantity until you hit that demand curve keep going up till you hit the average total cost curve and then bring those two points all the way to the axis to find the amount of economic losses again if there were numbers here we could calculate the area of that rectangle to find the amount of economic loss and just like with other firms you've learned about this firm will still operate in the short run as long as their price is greater than the average variable cost and so if we draw in the average variable cost curve we can see that at the profit maximizing quantity the price is above the average variable cost and that means this firm will actually lose less money money by continuing to operate in the short run and that's because if this firm shuts down they will lose their fixed cost which is the gap between the average variable cost and average total cost all the way to the axis and that's the area of that rectangle right there which is much more than the economic loss that this firm will face while operating next we're going to talk about long run equilibrium with a monopolistically competitive firm just like with perfect competition monopolistically competitive firms are going to break even in the long run because of low barriers to entry so let's see how to draw a zero economic profit let's start off with our axes here add in that downward sloping demand average revenue and price along with the marginal revenue below the demand curve draw in the marginal cost curve find the Mr equals MC Profit maximizing quantity drop down to the axis there is our profit maximizing quantity labeled qf they price all the way up at the demand curve and since this firm is going to be breaking even in the long run the average total cost is going to be equal to the demand curve or the price at the profit maximizing quantity labeled qf and that means the average total cost curve must be tangent to that price quantity point on the demand curve there draw in that average total cost be sure when you draw this in that the minimum of the average total cost curve is intersecting that marginal cost curve and now this firm is breaking even in the long run because the average total cost is equal to the average revenue make sure you practice drawing this graph it is the hardest graph to draw accurately drawing in that ATC can be a little tricky because it cannot drop below the demand curve at any point and this situation is called long run equilibrium monopolistically competitive firms are always going to break even in the long run and the graph is going to look like this so next we're going to talk about how we get to Long Run equilibrium from economic profits and economic losses here we have an economic profit and we're going to move from that profit to the long run in the long run firms are going to enter the market seeking that economic profit and that is going to shift the demand and marginal revenue to the left because as firms enter the market there are going to be more substitutes available that's going to decrease the market share or the size of the market for each individual business that is within this Market when that demand curve shifts to the left the demand curve is now going to be tangent to the average total cost curve at the profit maximizing quantity and now the firm is breaking even in the long run a little side note that demand curve is also going to become more elastic as firms enter the market and that's because more substitutes means we have a more elastic demand curve next we have a monopolistically competitive firm that is earning economic losses in the short run in order to move for from that economic loss to a long run breaking even we are going to have firms exit the market as a result of fleeing the economic losses when that occurs each firm that remains within this Market will have a bigger share of the market and that will mean more consumers for each of the businesses remaining that increases the demand dragging with it the marginal revenue curve until the firm breaks even at a new higher profit maximizing quantity and since firms exiting the market means there are fewer substitutes available within this Market the demand curve is going to become less elastic next we're going to talk about the efficiency of monopolistically competitive markets when it comes to productive efficiency monopolistically competitive firms or not and that's because they produce on the downward sloping portion of the average total cost curve and that is called excess capacity when it comes to a monopoly the downward sloping average total cost curve is often referred to as economies of scale and that's because the Monopoly ATC is the long run average total cost for monopolistically competitive firms we call this excess capacity essentially firms can reduce the average cost of production by increasing production and that's because most monopolistically competitive firms are going to have resources that are sitting idle that could be employed if the business chose to use them and so if this firm was going to be productively efficient it would be producing at QP right there which is found at the minimum of the average total cost curve or where the average total cost curve equals the marginal cost monopolistically competitive firms are also not allocatively efficient and that's because they price above the marginal cost curve we call the difference between the marginal cost and the profit maximizing price markup if monopolistically competitive firms are allocatively efficient they would produce where the price equals the marginal cost that's because allocative efficiency means we're producing where the marginal benefit equals the marginal cost that price curve or the demand curve is also the marginal benefit curve and since this firm isn't allocatively efficient it has dead weight loss you you can find the dead weight loss triangle by finding the marginal cost of the quantity we're currently producing at qf then find the marginal benefit which is on the demand curve above and the marginal benefit equals marginal cost allocatively efficient point right there those three points give us our triangle of deadweight loss and again if we had numbers on this graph we could calculate the value of that deadweight loss as well so when it comes to monopolistically competitive firms it's easy to think that they're as inefficient as monopolies perfectly competitive firms are allocatively efficient but in a perfectly competitive market all products are the same and if chocolate was perfectly competitive we'd get really bored of our chocolate selection quickly but since chocolate bars are actually monopolistically competitive we have lots of variety to choose from when it comes to our chocolate bars and so when it comes to monopolistic competition we have one big important benefit and that benefit is the variety that comes with product differentiation and those product differences have real value to Consumers and so the value of the variety that that we get might negate the inefficiency we see from monopolistically competitive firms finally we're going to talk about changes in costs and how those changes impact monopolistically competitive firms first let's talk about a change in fixed cost an example of a fixed cost change could be a lump sum tax from the government a lump sum subsidy from the government perhaps a change in rent that the entrepreneur must pay to a landlord or businesses May engage in advertising as well which is a fixed cost and monopolistically competitive firms often advertise in an attempt to shift the demand for their product to the right and decrease the elasticity of their demand curve which would make their consumers less sensitive to a price increase allowing them to increase profits over on the graph if we see an increase in fixed cost that's going to shift our average total cost upward it doesn't change our profit maximizing quantity or profit maximizing price all it does is create economic losses if we see a decrease in fixed costs on the other hand that again isn't going to change the price of the quantity only create economic profits and both of those changes are short run changes because again in the long run these firms Break Even if we see changes in variable cost like a per unit tax or a per unit subsidy or the change in the price of an input like changes in wages then we are going to see shifts in both the average total cost and marginal cost curves so over on the graph we could see an increase in variable cost which will shift the average total cost and marginal cost curves upward that's going to give us a new Mr equals MC point at a lower quantity and higher price on the demand curve above and in addition to the change in the output and the price we are also going to see economic losses now if on the other hand we had a decrease in variable cost that's going to shift the marginal cost and average total cost curves downward and that's going to give us a new higher profit maximizing quantity and lower profit maximizing price and we are now going to see economic profits for this firm in the short run and there you have it that is what you need to know about monopolistically competitive firms on your exam if you're ready to practice drawing monopolistically competitive firms head over to review econ dot com and find the graph drawing practice game if you still need more help after that pick up the total review booklet it has everything you need to know to Ace your microeconomics or macroeconomics exams that's it for now I'll see you all next time